KPMG report: Country-by-country reporting, proposed regulations in United States

U.S. proposed regulations, country-by-country reporting

Proposed regulations (REG-109822-15) were published in today’s edition of the Federal Register to require annual country-by-country (CbyC) reporting for parent entities of large U.S.-based multinational groups (U.S. MNE groups).

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These proposed regulations [PDF 252 KB] generally are designed to coordinate with the model CbyC reporting template and instructions set forth in Action 13 of the OECD/G20 base erosion and profit shifting (BEPS) project. However, some aspects of the proposed regulations represent a more detailed or slightly different approach from the approach delineated in Action 13. The preamble notes that the proposed regulations, while generally consistent with international standards, are tailored to be consistent with the information reporting requirements applicable to U.S. persons under the relevant Code sections pursuant to which they were issued (sections 6001, 6011, 6012, 6031, and 6038)

Overview

The proposed regulations contain the operative provision, relevant definitions, the reporting period, contents of the return, method for reporting financial amounts, time and manner for filing, maintenance of records, exceptions to furnishing information, and effective/applicability dates. As described below, this more detailed guidance from the Treasury Department and IRS answers some taxpayer questions, but leaves others unaddressed.

The preamble to the proposed regulations echoes language in the OECD’s BEPS Action 13 regarding the goals and limitations of CbyC reporting, indicating that while the reports will help the IRS to perform high-level transfer pricing risk identification and assessment, information in the reports “will not itself constitute conclusive evidence that transfer pricing practices are not consistent with the arm’s length standard” and “transfer pricing adjustments will not be based solely on a CbyC report.”

The preamble also addresses U.S. taxpayer concerns regarding the confidentiality of information provided on the CbyC reports submitted around the globe, indicating that for U.S. purposes, information reported pursuant to the proposed regulations constitutes return information under section 6103, which imposes strict confidentiality requirements, and allows the IRS to exchange information only to the extent provided in, and subject to the terms and conditions of, an information exchange agreement. The preamble notes that the IRS and Treasury enter into such agreements only when they are satisfied with respect to the legal safeguards, enforcement, and penalties provided by the counterparty to the agreement, and that the U.S. competent authority will not enter into a reciprocal automatic exchange of information relationship with another jurisdiction unless it has reviewed that jurisdiction’s policies and procedures. Moreover, the IRS and Treasury will pause the automatic exchange of CbyC reports with tax jurisdictions that are not meeting their obligations under the applicable information exchange or competent authority agreement.

 

Form XXXX. As noted in the preamble, the form to be used for CbyC reporting is currently under development by the IRS and is not officially numbered. Nonetheless, the “Form XXXX” will be based on the Action 13 model template CbyC report. The preamble notes the appropriateness of using the model template, as it was developed through extensive consultation with stakeholders and reflects an agreed international standard for reporting by MNE groups, which—if adhered to by all parties—will help reduce compliance costs.  

 

Effective date.  The regulations are proposed to be applicable to tax years of ultimate parent entities of MNE groups beginning on or after the date of publication of the final regulations. Given the late publication date for the proposed regulations, final regulations would not be expected until sometime during 2016, pushing the first reportable period for of calendar year MNE groups to 2017.  Form XXXX is expected to be filed with the ultimate parent entity’s timely filed income tax return.  This is one year later than the anticipated reporting period.

KPMG observation. U.S. MNE Groups that include entities subject to foreign CbyC filing requirements may be subject to those requirements in the absence of final U.S. CbyC regulations.

 

Reporting threshold. Prop. Reg. section 1.6038-4(h) provides a general exception to CbyC reporting in cases when the annual revenue for the U.S. MNE group for the immediately preceding annual accounting period was less than $850 million.  The Action 13 threshold for reporting is €750 million.

KPMG observation.  As each local jurisdiction adopts CbyC reporting and issues local legislation/regulations and sets its own locally denominated threshold for reporting, currency fluctuations could result in varied standards across the globe, which could be challenging if there is a gap in effective dates. 

Important definitions

The definitions in the proposed regulations generally track those in BEPS Action 13.  Reporting is required by the ultimate parent entity of a U.S. MNE group, defined as a U.S. business entity that:

  • Owns directly or indirectly a sufficient interest in one or more other business entities, at least one of which is organized or tax resident in a tax jurisdiction other than the United States, such that the U.S. business entity is required to consolidate the accounts of the other business entities with its own accounts under U.S. generally accepted accounting principles, or would be so required if equity interests in the U.S. business entity were publicly traded on a U.S. securities exchange; and
  • Is not owned directly or indirectly by another business entity that consolidates the accounts of such U.S. business entity with its own accounts under generally accepted accounting principles in the other business entity’s tax jurisdiction of residence, or would be so required if equity interests in the other business entity were traded on a public securities exchange in its tax jurisdiction of residence.  

The preamble also clarifies that a U.S. MNE group does not include business entities that are accounted for under the equity method.    

The definition of U.S. business entity, in turn, cross references the definition of “person” in section 7701(a) (but not including individuals). It also includes any entity that has a single owner and that is disregarded as a separate entity from its owner under Prop. Reg. section 301.7701-3. The proposed regulations also include in this definition permanent establishments (PEs) that prepare financial statements separate from those of the owner for financial reporting, regulatory, tax reporting, or internal management control purposes.

Form XXXX will require specific information about the activities and functions performed by constituent entities in the U.S. MNE group, which will include any separate business entity of the U.S. MNE group, with the exception of foreign corporations and foreign partnerships (or the PEs of such foreign corporations or foreign partnerships) for which the ultimate parent entity is not required to furnish information under section 6038(a) (determined without regard to Reg. section 1.6038-2(j) and 1.6038-3(c)). 

Special issues

Tax residence.  Like the OECD Model template, the proposed regulations require U.S. MNE groups to structure Table 1 reporting by jurisdiction in which constituent entities are tax resident.  Non-taxable partnerships and other entities that are not subject to tax in any jurisdiction (and do not otherwise own or create a PE) are generally treated as “stateless.”  In addition, the preamble indicates that a business entity will not be considered “resident in a tax jurisdiction” if it is liable to tax in such jurisdiction, solely with respect to income earned in, or capital situated, there.  PEs are viewed as resident in the jurisdiction in which they are located.

 

Dealing with partnerships and “check-the-box” entities. The proposed regulations provide further clarity regarding the treatment of partnerships’ reportable items and check-the-box entities on Form XXXX.  

 

[I]t is expected that the partners will report their share of the partnership’s items in the partners’ respective tax jurisdictions of residence in order to determine the aggregate amounts to be determined on Form XXXX, Country-by-Country Report…

 

Furthermore, the preamble applies flow-through treatment to partnership items regardless of whether the partnership has elected to be treated as an association for U.S. federal tax purposes. Thus, the U.S. tax classification generated by the “check-the-box” regulations would not be relevant for this purpose and reverse hybrid entities would report their items at the partner level.  Notably, the IRS and Treasury are continuing to consider the issue and have requested comments regarding the appropriateness of this approach for reverse hybrid entities.

KPMG observation.  Although the proposed regulations have addressed significant entity-level issues, they leave several data-related issues unanswered—e.g., whether distributions from taxable partnerships should be excluded from revenues in the same manner as dividends, whether a corporation’s “stated capital” should be interpreted consistently with partnership capital accounts, etc. 

 

Employees.  The preamble to the proposed regulations provides more detail than BEPS Action 13 regarding the reporting of employees on the CbyC form, which includes a box for reporting the number of employees on a full-time equivalent basis in each jurisdiction. The preamble also solicits comments as to whether further guidance is needed regarding the treatment of other employment situations. 

Consistent with Action 13, Prop. Reg. section 1.6038-4(d)(3)(iii) lets taxpayers determine headcount as of the end of the accounting period, on the basis of average employment levels for the accounting period, or any other reasonable basis consistently applied across tax jurisdictions and from year to year, and allows for inclusion of independent contractors. Significantly, the preamble adds a physical/geographic overlay to the requirement, stating that the number is to be determined by reference to the employees “that perform their activities for the U.S. MNE group within such tax jurisdiction of residence.”  The preamble also permits U.S. MNE groups to take a reasonable (but consistent) approach for addressing tougher factual situations, such as reporting employees that work in multiple jurisdictions and jurisdictions where the U.S. MNE group has no tax resident constituent entities.  

KPMG observation. Action 13 does not include such a requirement regarding the location where employees’ activities are performed. 

Comments requested

The proposed regulations solicit comments on the following issues:

  • Whether additional guidance is needed on for determining which U.S. persons must file Form XXXX, Country-by-Country Report, or which entities are considered constituent entities of the filer. Specifically, comments are requested on whether additional guidance on the definition of U.S. MNE Group is necessary to address: (1) situations when U.S. GAAP or U.S. securities regulations permit or require consolidated financial accounting for reasons other than majority ownership, and (2) situations, if any, when U.S. GAAP or U.S. securities regulations permit separate financial accounting of majority-owned enterprises.
  • The procedures that a U.S. person should be required to follow in order to demonstrate a national security reason to receive an exception from filing some or all of the information otherwise required by Form XXXX, Country-by-Country Report.
  • The treatment of entities that are not treated as fiscally transparent in the owner or owners’ tax jurisdictions of residence, but are treated as fiscally transparent in the entity’s country of organization (i.e., reverse hybrid entities).
  • Whether additional guidance is needed regarding which business entities of a U.S. MNE group are considered constituent entities, particularly with respect to the exclusion of foreign corporations and partnerships for which an ultimate parent entity would not be required to furnish information under section 6038(a) without regard to Reg. sections 1.6038-2(j) and 1.6038-3(c).
  • The manner in which the proposed regulations request information on the taxes paid or accrued by MNE groups and their constituent entities on taxable income earned in the relevant accounting period.
  • Whether any of the other items on the OECD model template should be further refined, or whether additional guidance is needed with respect to how to determine any of the data items reportable in Table 1.  
  • Whether guidance is needed regarding the treatment of employment situations other than those currently addressed (e.g., independent contractors, employees operating in more than one jurisdiction, or in a tax jurisdiction in which none of the constituent entities of the U.S. MNE group is resident).

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